Question about IRR and NPV

A company is analyzing two mutually exclusive projects, S and L, with the following cash flows:

0 1 2 3 4
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S -$1,000 $900 $250 $10 $10
L -$1,000 $0 $250 $400 $800

The company's WACC is 10%. What is the IRR of the better project? I'm not sure that the better project may or may not be the one with the higher IRR.

Solution Preview

The IRR is the discount rate that makes the NPV of an investment zero. An investment should be accepted if it is higher than the required return; if it is lower, the project is not acceptable. Here the IRR is 20% which is higher than the cost of capital of 20%. Thus we will accept the project. The IRR can be a problem if cash flows are not conventional or when in this case with multiple projects to compare, the IRR can be misleading and not provide the actual best investment. IRR is a discount rate: the rate at which the present value of a series of investments is equal to the ...

Solution Summary

A company is analyzing two mutually exclusive projects, S and L, with the following cash flows: